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30 year Irish bonds: What it means for the mortgage market

In the USA the 30yr Treasury is often called the ‘long bond’ and it is watched (the yields) very closely as it is the indication on long term rate expectations from within the market. If the NTMA issue 30 year bonds as suggested by today’s Independent it could bring about an important development that we have been advocates of for some time, namely, that of long term fixed rate mortgages.

Banks have a certain level of ‘zero rated funds’, this is money that is not incurring cost in terms of interest payments to the customer, they generally tend to come about in current accounts. Many people keep a certain amount of money in a current account from month to month, when you add all of this together across the institution there is normally a certain foundation or base level of funds constantly there. The zero rated funds are generally where the funding area where fixed rates come from, and the fixed rate mortgage prices are based upon a comparable (normally a sovereign bond).

A bank will look at the coupon on a Government bond (we’ll say its 3.5%) and then decide that if they can put a risk premium on this by lending the money out instead (for a mortgage) that if they can earn 4.5% on that loan then it makes sense to take the risk and lend at that price as they are making 22% more than they would by opting for the bond. This difference is the risk premium, the justification for doing a loan instead of buying a security.

The reason we have a maximum of 10yr fixed rates in Ireland is because that was (until recently) the longest term bond the state issued via the NTMA. However, this has started to change, last July we issued a 15yr bond and now there is talk of a 30 year.

What this means is that for the first time there is a pricing comparable of greater than 10 years, we currently have a 15 year level to benchmark against and soon there could be a 30 year option. The good thing about this in the mortgage market is that it helps to avoid the credit risk to an individual when obtaining finance, people who got cheap mortgages in 2003 saw them get more expensive in the run up to 2008 then come down in price since, that attraction to variable rates is not healthy, it creates bad underwriting as stress tests come in too low during low interest rate environments and too high (this problem was best seen by the people who were forced into 5yr fixed rates at 6%+ during 2008) on the way up.

In the USA the markets least affected by the property crash were those that had predominantly long term fixed rate mortgage holders, those that have been the most catastrophic use ARM (adjustable rate mortgages – the American acronym for variables). If banks were to move toward long term fixed rates it would be a good thing, but short of this, we would be happy to see the possibility of a 20 year or longer fixed rate. People take on debts for 25 years but there is no guaranteed price and that exposes them to many ups and downs along the way.

Indeed, if this were the case perhaps there would be mortgage holders who would be in a pinch because they wouldn’t have gotten the downward advantage of how interest rates have moved, but at the same time, we shouldn’t have a system predicated on being bailed out by cheap money, in fact, cheap money was a large part of the problem that got us here!

Thanks for dropping by, In the USA they have break clauses too! And people often pay far higher margins as well as having points loaded on the rate and other things that make it more expensive compared to Ireland.

In Ireland they are often centred on the price of the financial swap that banks sometimes buy when bringing out the fixed rate for the customer, so the further away rates move (lower) the worse it gets for the consumer.

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